Circuit City, like Tweeter, zapped by market forces

Saturday

May 31, 2008 at 12:01 AMMay 31, 2008 at 10:07 PM

Mark Wattles shows up at a well-known consumer electronics retailer, buying a ton of shares in the company and making noise about possible leadership or ownership changes. That scene played out quite publicly in recent months at Circuit City.

Jon Chesto

Mark Wattles shows up at a well-known consumer electronics retailer, buying a ton of shares in the company and making noise about possible leadership or ownership changes.

That scene played out quite publicly in recent months at Circuit City, which is being eyed as a takeover candidate after Wattles and other investors expressed dissatisfaction with the Richmond, Va.-based company's management.

But the scenario probably seems familiar to longtime employees at Tweeter's corporate headquarters in Canton, Mass. That's because Wattles had his sights on Tweeter before he turned his focus on the country's No. 2 home electronics retailer.

Wattles famously built Hollywood Entertainment into a national video chain before selling it to Movie Gallery in 2005. That same year, he bought up a Thornton, Colo.-based chain known as Ultimate Electronics, and started accumulating shares in Tweeter.

The management at Tweeter never seemed to take kindly to Wattles' advances, especially after he went public with his concerns about the company's financial situation.

The company had strong anti-takeover rules - including what's known as a “poison pill” - that could prevent any one investor from buying too many shares. Wattles unsuccessfully lobbied the company to drop those provisions, and by the start of 2007, he had sold his shares and moved on.

Wattles resurfaced recently at Circuit City, becoming a major shareholder there and calling for the removal of the company's board. Wattles didn't gain much traction, however, until his old rival from the video rental industry showed up.

Blockbuster surprised many investors in both companies in April when it disclosed an unsolicited bid for Circuit City - backed by investment mogul Carl Icahn - worth about $6 to $8 a share, or more than $1 billion. Circuit City, whose stock has tumbled from about $30 a share two years ago to nearly $5 a share today, begrudgingly opened its books to Blockbuster and agreed to give three of Wattles' reps a seat at its board table.

Some analysts say Circuit City wound up in this position because of mismanagement. Others blame a dour economy that has caused a seemingly endless line of store closures at a range of retail chains.

Eric Haruki, an analyst with IDC, points to another culprit: the big-screen TV. As at Tweeter, big-screen TV sales have been the lifeblood of Circuit City. Before Tweeter filed for bankruptcy protection last year, it said its TV profit margins were being squeezed and it was losing market share to discounters.

Now Circuit City, a step below Tweeter on the price ladder, could be facing the same problem. An IDC survey taken late last year showed that 65 percent of U.S. consumers bought their current TV at an electronics chain.

But that survey also showed that only 43 percent of consumers expect to buy their next TV at an electronics chain. Haruki says much of the lost market share will go to Costco and other discount clubs.

Scott Tilghman, an analyst at Hudson Square Research in New York, says he sees many differences between what happened with Tweeter and what's going on at Circuit City.

For example, Tilghman considers Circuit City to be far healthier than Tweeter was at the time of Wattles' arrival. He says Tweeter had a much larger debt load in relation to the size of its overall business, and a much narrower range of products on its shelves.

But Tilghman says both chains have had a hard time reinventing themselves to keep up with changing market conditions.

In Tweeter's case, the chain didn't have enough money to quickly roll out its “CE Playground” concept, which focused more on selling installation services in an environment resembling a customer's home. Tweeter also needed to file for bankruptcy so it could exit store leases that had kept the company stuck in unprofitable locations.

Circuit City, Tilghman says, also faces a major real estate problem: The company hasn't been able to shed its excess space fast enough and move to a smaller store model.

Tweeter filed for bankruptcy before it had a chance to prove that its turnaround plan could succeed. The slimmed-down company is now owned by a private equity firm and is still moving forward with plans to change its store strategy.

Circuit City may well get the opportunity to prove its turnaround plan can work on its own without an acquisition or bankruptcy. The Blockbuster bid has been ridiculed by some as a marriage between two weakened companies that may only make things worse for both partners.

That said, this could be the time when Wattles' agitation helps bring meaningful changes at a major electronics chain, the kind of changes that Wattles didn't get the chance to implement three years ago when he arrived at Tweeter's doorstep.

Jon Chesto is the business editor of The Patriot Ledger. He may be reached at jchesto@ledger.com.

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